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Insolvency Update: Retention of Title and Fiduciary Relationships

27 October 2016

Simple retention of title clauses are commonplace and generally effective in contracts for the sale of goods. However, extending their effect to the proceeds of sale of such goods requires careful drafting.

The Court of Appeal has provided some further clarity around the creation and effects of fiduciary obligations in relation to such clauses.[1]

Proceeds of sale clauses

It is well established that there is a risk that any attempt to capture the proceeds of sale of goods supplied subject to a retention of title clause, may be construed as a charge and therefore void for want of registration.[2]

To avoid this conclusion and therefore be entitled to trace the proceeds, the seller must be able to establish a fiduciary relationship between the seller and the buyer. For a period of time there was some doubt as to whether this could be accomplished successfully. However, in Carroll Group Distributors, [3] the High Court stated as follows:

“It seems to me that the question must be asked how does a party come to sell property of which he is not the owner?

· Is he selling as a trustee in pursuance of a power of sale?

· Is he selling as the agent of the true owner?

· Does the sale constitute a wrongful conversion?

If any of those questions were answered in the affirmative it seems to me that the law would impose a trust on the proceeds of sale which would confer on the true owner the right to recover those proceeds from the actual seller or, if the proceeds were no longer in the seller's hands, to trace them into any other property acquired with them. If the new asset was acquired partly with such proceeds and partly with other monies provided by the seller then the right of the true owner would be to a charge on the new asset or mixed fund to the extent of the proceeds of the sale of his property. This is the rule enunciated in In re Hallett's Estate; Knatchbull v Hallett (1880) 13 Ch D 696.” [Questions reformatted for clarity.]

Creating a fiduciary relationship

In ADM Londis Plc v Ranzett Ltd & Ors [4] the parties entered into a number of interlinked agreements in relation to the operation of a grocery shop. When the business failed to prosper, ADM Londis terminated the agreements, repossessed most of the stock, de-branded the shop and sued for debt and on foot of personal guarantees given by the second and third defendants. The defendants counterclaimed for, amongst other things, alleged breach of contract.

One clause in the standard terms of trading described the relationship between the parties as a fiduciary relationship. The High Court held that, in itself, it was sufficient to impose obligations of utmost good faith and mutuality on both parties.

Accordingly, notwithstanding the fact that the agreements provided for termination “forthwith”, on the basis of its finding that the plaintiff owed fiduciary duties to the defendants, the High Court found that ADM Londis was required to give at least two weeks’ notice stating that if it:

“wished to extricate itself from agreements which no longer made commercial sense, it was required to do so in a fashion which ensure[d] that its erstwhile partners – in essence, the defendants – were given the maximum opportunity to find new suppliers."

In a sequence of three further judgments in the High Court, substantial damages and costs were awarded against ADM Londis.

Court of appeal

ADM Londis successfully appealed against all of the judgments of the High Court. In reaching the decision, the Court of Appeal noted:

“There is a neatly expressed legal aphorism about the obligations of a fiduciary. … a person ‘is not subject to fiduciary obligations because he is a fiduciary; it is because he is subject to them that he is a fiduciary.’[5] … That means that there is not a general category under that heading and the word itself is not decisive but there are certain circumstances that gave rise to obligations in the nature of a trust and that is when a person has obligations that place him under a fiduciary duty.”

There are many classes of relationship where one person in the relationship owes fiduciary obligations to the other.

The requirement to lodge all proceeds of sale (including profit that would not be due to ADM Londis) to a designated bank account meant that it was doubtful that the contract imposed a fiduciary obligation on Ranzett, it “certainly did not impose fiduciary obligations on ADM Londis in relation to Ranzett”.

Separately, the Court held that:

there is no obligation on a retention of title seller to ensure that it takes all of its goods back; and

a defaulting buyer is not entitled to claim for the cost of separating goods from those of other suppliers where the contract of supply required that they be stored separately.

Comment

This judgment raises important issues for consideration in the drafting and interpretation of retention of title clauses that seek to extend to the proceeds of sale. In that regard, the Court of Appeal judgment:

makes it clear that to create a fiduciary relationship, obligations of a fiduciary nature must be set out – the mere description of a relationship as a fiduciary one will be insufficient;

reiterates that the courts will be slow to infer fiduciary obligations and especially mutual fiduciary obligations;

confirms the difficulty in imposing a fiduciary obligation on a proceeds of sale account, which contains mixed funds including mark-up on the relevant goods; and

emphasises the need for very careful drafting of proceeds of sale retention of title clauses.